Interest Rates and Bonds

[COcheesehead]

Powell said in an interview last week that they would not stop the rate hikes until inflation starts coming down to 2%. The last CPI numbers were 6.3%, so that's a ways to go yet.

The trend matters too and the trend is down.

 

[COcheesehead]

So, for those who might be laddering bonds with the noted similar strategy, how far down the rating scale do you go?? I realize everyone has their own risk tolerance and the % of defaults increase as you move down, but curious as to where most draw the line on ratings relative to risks? Also, in underwriting a lower rated bond with a shorter term maturity (say 1 year or less), assuming you do some DD and the company should "make it" during that period, should not assume that is a reasonable risk to take, assuming you are getting a premium (as opposed to say a 5 year maturity)?

Still curious about how/if individual preferreds should be in the ladder.

A lot depends on the class of bonds. A Ba rated muni has a 3% chance of default. A Ba corporate has a 15% chance.

I stay with high investment grade muni’s because they pay better than treasuries, have a much better default rate than corporates and there are advantages to having lots of tax free money. I take in six figures of income a year and we are in the zero tax bracket.
I want my ladder to be relatively safe and predictable.
I take income risk with my second bucket, that’s where preferreds, junk, closed end funds, etc belong. I want predictable cash flow in bucket one.
As for duration, mine is goal oriented. I want a bridge to social security ten years from now. Our average duration of the ladder stands at about seven years right now with a 3%+ double tax free yield. The yield goes up with every new bond I buy. The average coupon is close to 5%.

 

[DawgMan]

A lot depends on the class of bonds. A Ba rated muni has a 3% chance of default. A Ba corporate has a 15% chance.

I stay with high investment grade muni’s because they pay better than treasuries, have a much better default rate than corporates and there are advantages to having lots of tax free money. I take in six figures of income a year and we are in the zero tax bracket.
I want my ladder to be relatively safe and predictable.
I take income risk with my second bucket, that’s where preferreds, junk, closed end funds, etc belong. I want predictable cash flow in bucket one.
As for duration, mine is goal oriented. I want a bridge to social security ten years from now. Our average duration of the ladder stands at about seven years right now with a 3%+ double tax free yield. The yield goes up with every new bond I buy. The average coupon is close to 5%.

Yep, I am new-ish to the individual bond thing as I had always been in ETFs in the past during the accumulation phase, but believe it fits well with my investment temperament longer term as I start withdrawals this year, especially in the current market climate. In my case, keeping a 10 yr bucket and letting the rest ride in equities appeals to my safety & growth desire glands. That said, I get your 3 bucket approach. I also plan on a much larger than average annual withdrawal/spend, but have many levers to pull when needed as my WR is currently in the 2.5% range and most of it is discretionary. Our planned spend will have us hitting the 24% - 32% tax bracket before any Roth conversions, assuming I pull from tax deferred accounts, so I am still trying to work through the short and long term tax strategies/implications, but munis may come into play. Getting the macro plan properly set up yr 1 is my priority after which I quickly turn to maximizing efficiency.

 

[jazz4cash]

I found The Bond Book by Annette Thau very helpful. She was a municipal bond analyst. I felt it was pretty objective about the pros and cons of funds vs. individual bonds, whereas much of the online information is often tilted by parties with vested interests.

Thanks for the suggestion. I just received a used copy from Amazon. Somewhat dated but should be informative.

 

[11522914]

Can someone explain why every time the 10 year Treasury gets above 3% it gets immediately slammed back down under 3%.

I think finally here we go, then check it a day or two later and we're back below 3% again.

It's not like inflation is coming down. I believe CPI is out Friday so it will be interesting.

Schwab did have some non-callable brokerage 5 year cds at 3.3% today.

 

[COcheesehead]

Can someone explain why every time the 10 year Treasury gets above 3% it gets immediately slammed back down under 3%.

I think finally here we go, then check it a day or two later and we're back below 3% again.

It's not like inflation is coming down. I believe CPI is out Friday so it will be interesting.

Schwab did have some non-callable brokerage 5 year cds at 3.3% today.

It’s simple, buyers step in. The market is telling you that at a 100% safe, 3% coupon treasury, people will buy it.

 

[Closet_Gamer]

It’s simple, buyers step in. The market is telling you that at a 100% safe, 3% coupon treasury, people will buy it.

And now we get to see what happens when the Fed stops acting as a massive part of the "buy" side of the market and instead becomes a large part of the "sell" side of the market.

Will be interesting see the clearing price/interest rate on debt is when the Mr. Fed shifts his nifty digital cash machine from the "Print Money" setting to the "Shred Money" setting.

 

[COcheesehead]

And now we get to see what happens when the Fed stops acting as a massive part of the "buy" side of the market and instead becomes a large part of the "sell" side of the market.

Will be interesting see the clearing price/interest rate on debt is when the Mr. Fed shifts his nifty digital cash machine from the "Print Money" setting to the "Shred Money" setting.

If you are properly laddered, you mitigate that risk.

 

[Closet_Gamer]

If you are properly laddered, you mitigate that risk.

Correct ... but I find it very interesting both academically and practically.

The blast radius around that change could lead to assets being repriced across the spectrum with even global knock-on effects. This is one of the biggest economic policy shifts most of us will live through (I hope).

 

[COcheesehead]

Correct ... but I find it very interesting both academically and practically.

The blast radius around that change could lead to assets being repriced across the spectrum with even global knock-on effects. This is one of the biggest economic policy shifts most of us will live through (I hope).

There’s a positive side too. Fixed income might actually pay retirees something again.

 

[lawman]

There’s a positive side too. Fixed income might actually pay retirees something again.

That would be nice for those of us on fixed incomes

 

[DawgMan]

There’s a positive side too. Fixed income might actually pay retirees something again.

What's interesting is as someone who follows a Total Return approach (with a Bucket overlay), all of a sudden we are in the range of locking in pretty safe bond yields to match many WRs. Assuming equities perform at some reasonable level of return going forward, perhaps there is a silver lining... at least until there isn't!

 

[pb4uski]

What's interesting is as someone who follows a Total Return approach (with a Bucket overlay), all of a sudden we are in the range of locking in pretty safe bond yields to match many WRs. Assuming equities perform at some reasonable level of return going forward, perhaps there is a silver lining... at least until there isn't!

I'm not sure if that works, but better interest rates definitely help.

Remember that WR is only calculated at retirement and then the WR amount is then increased for inflation each year.

So if you start at $1 million with a 4% WR then the first year withdrawal is $40k and if inflation is 5% in the first year then the second year withdrawal is $42k.

 

[DawgMan]

I'm not sure if that works, but better interest rates definitely help.

Remember that WR is only calculated at retirement and then the WR amount is then increased for inflation each year.

So if you start at $1 million with a 4% WR then the first year withdrawal is $40k and if inflation is 5% in the first year then the second year withdrawal is $42k.

True. But we appear at least headed in the right direction and if you have a 3% or less WR, you are getting in the ballpark. Just looking at the glass half full!

 

[COcheesehead]

True. But we appear at least headed in the right direction and if you have a 3% or less WR, you are getting in the ballpark. Just looking at the glass half full!

Speaking as someone with a 2.2% WD, I am frankly pretty happy with the direction of interest rates. I doubled the return on my ladder in pretty short order. It now pays more than 2x my WD.

 

[Dash man]

If only inflation weren’t so much higher!

 

[lawman]

Speaking as someone with a 2.2% WD, I am frankly pretty happy with the direction of interest rates. I doubled the return on my ladder in pretty short order. It now pays more than 2x my WD.

What's WD?

 

[USGrant1962]

Can someone explain why every time the 10 year Treasury gets above 3% it gets immediately slammed back down under 3%.

I think finally here we go, then check it a day or two later and we're back below 3% again.

...

I noticed that too. I recently sold off a taxable ultra-short bond fund position for a small tax loss harvest (was a money market substitute - did OK even with the TLH) planning to re-enter when the 10-year stays above 3%. It pops above that and immediately retreats. Strange, considering the Fed programmed rate increases and QE/QT tapering.

 

[COcheesehead]

If only inflation weren’t so much higher!

I have inflation hedges. Bonds are just a retirement paycheck.

 

[11522914]

Here we go again. 10 year barely over 3% right now. Will it hold [emoji848]

 

[almost there]

Here we go again. 10 year barely over 3% right now. Will it hold [emoji848]

Probably with the news out today.. "CPI 8.6% annual increase in May, following April's 8.3% rise. That marked the biggest jump since late 1981, and took out the prior 41-year high set in the March CPI, which rose 8.5%."

 

[madatrub]

Probably with the news out today.. "CPI 8.6% annual increase in May, following April's 8.3% rise. That marked the biggest jump since late 1981, and took out the prior 41-year high set in the March CPI, which rose 8.5%."

Thats 2 out of 6 months towards ibonds that suggest Ibond rates are holding at least.

 

[Bergamo]

If you are properly laddered, you mitigate that risk.

How would you ladder now to mitigate that risk?

 

[COcheesehead]

How would you ladder now to mitigate that risk?

It’s inherent in the strategy. You have bonds mature at regular intervals, mine mature almost monthly or at least every other month. Those then can be reinvested at a higher rate. I almost doubled the yield of my ladder since the first of the year by just buying higher yielding bonds with the maturing funds.

 

[Bergamo]

It’s inherent in the strategy. You have bonds mature at regular intervals, mine mature almost monthly or at least every other month. Those then can be reinvested at a higher rate. I almost doubled the yield of my ladder since the first of the year by just buying higher yielding bonds with the maturing funds.

Sorry I should have been clearer. In the current situation would you build a 2/6/9/12 month ladder, go further out, or something else. I am thinking about US Treasuries.